Rising rents will push house prices higher

Rising rents make owning an attractive alternative despite the high home prices, so rising rents will likely push more people to buy rather than rent.

After the big rally in home prices and the sudden increase in interest rates, houses feel expensive. In many areas, prices have reflated back to the peak of the housing bubble, and affordability has plummeted, prompting many to become bearish on housing. Despite these signs, my monthly reports still show the market as fairly valued, and when I look at individual properties, I see most are still selling for prices near rental parity, even in nicer neighborhoods. Part of the reason for this is low interest rates, but the other part of the equation is rent, and rents are very high.

Rapidly rising rents and stagnant incomes have made renting an expensive proposition across the country. Nationally, renters are spending more of their income on rent than they have at any point in the past 30 years. …

Historically in the United States, the median household would need to spend 24.9 percent of their income to afford the rent on the median property. Currently that number stands at 29.6 percent.

In other words, renters across the nation are currently spending almost 19 percent more of their incomes on rent than they did in the pre-bubble period between 1985 and 2000. In fact, in some parts of the country such as Los Angeles, Miami and San Francisco, the average household would need to spend over 40 percent of their income to rent the average home.

Nationally, the share of income that households must devote to rent has increased steadily and consistently since 2000, as the increase in rent has dramatically outpaced the growth in income over the same period. Over the period from 2000 to 2014, median household income has increased by 25.4 percent, while rents have increased over 52.8 percent, more than twice as much. …

Those are huge increases in what people are spending on housing.

And, of course, it’s worse here in California.

Since the housing bubble collapsed, rents have gone much higher.

So why are rents so high?

The headlines are dramatic, but are people really putting higher and higher percentages of their income toward rent? Perhaps not…

There are two reasons that rents can rise in price. The first is that the same units cost more money. The second reason is that the mix of rental units change so that the the typical unit costs more.

It is clear that the main cause of higher rents is the latter, as shown below.

This graph shows that the owner equivalent rent index from the Consumer Price Index (CPI) has almost exactly tracked the overall rate of inflation since the start of the century. (I used owner equivalent rent since this excludes the cost of utilities. The cost of utilities has likely outpaced inflation, but that is a somewhat different story.)

If this index from the CPI, which is effectively a quality adjusted price index, is not outpacing inflation, then it implies that the problem must be the quality is getting better. In other words, the units added to the rental housing stock (either by new construction or conversion of ownership units) are either bigger or better in some way than the average rental unit in 2000.

When the housing bubble burst, the home ownership rate plunged as people left their homes and many foreclosure auctions took place. Many people vacated properties whether or not a foreclosure occurred on their old house, and even if the bank did foreclose, often they held the property as an empty REO. The result was a decrease in the amount of available housing stock both for sale and for rent. The lack of available rentals caused a spike in rents during the depths of a recession when unemployment should have caused rents to go down. Rents went up too much from 2006 to 2008, and they drifted lower in 2009 and 2010, after the recession ended.

Let’s assume for a moment that rents are not escalating out of control; they are still rising, and as the economy gets better, they should continue to rise. Weak Job and wage growth hobbles housing but eventually those fundamentals will improve. When they do, there will be more pressure on rent, and it will tip the balance back toward owning versus renting, unless rising interest rates make owning significantly more expensive.

I put in long hours debugging the calculations on this site, and I still have a way to go, but in that process, I looked at a large number of properties. In nearly every city, I see the same pattern: the cost of ownership approximates comparable rents for conventional financing using 20% down, and it’s more expensive to own using FHA financing. You can browse through any city in my coverage area and see the same thing. We can collectively complain about high resale prices all we want, but as long as properties are selling for rental parity, particularly in neighborhoods with large historic premiums, people will buy homes, and they won’t be disappointed with their purchase (unless they expect double-digit appreciation).

Rising rents will push house prices higher; but then again, that’s how the housing market is supposed to work.

22 responses to “Rising rents will push house prices higher”

Interested in a day at the beach or a day on the ski slopes? California has you covered. Want to take in some culture or an NBA game? California is the place to be. Want world-class food and drink? Take your pick from thousands of choices.

That’s probably why it’s home to the U.S.’s eight most expensive cities to buy a home. It basically takes gold to live in the Golden State.

It may come as no surprise that a home in San Francisco is more expensive than any other city in the country. The median listing price for a home in San Francisco is $867,280, according to March’s National Housing Trend Data from Realtor.com.

The exorbitant prices don’t seem to be affecting how long it takes to sell a home in the city though. The median age of inventory in San Francisco is 33 days, which is the 4th lowest out of the 142 cities that make up Realtor.com’s list.

There’s also a scarcity of inventory in San Francisco. There are only 2,140 homes are on the market in the city.

Just how expensive is a San Francisco house relative to the rest of the country? Well, on the opposite end of the list, ranked 142nd, is South Bend, Indiana. The cost of one house in San Francisco would buy almost 10 houses in South Bend, where the median listing price is $89,900.

San Francisco’s median listing price is $167,000 above the second most expensive city, Santa Barbara. In Santa Barbara, the median listing price is $700,000.

Just below Santa Barbara is San Jose, where the median listing price is $699,000. The cost of San Jose homes isn’t driving buyers away. In fact, inventory is coming off the market in 31 days in San Jose. That’s 3rd fastest in the country.

Nearly $100,000 behind San Jose is Orange County. The median listing price for Orange County is $599,999. The amount of homes on the market has exploded in Orange County in the last year. According to Realtor.com’s data, there are 10,072 homes available in the city. That’s up 63.51% from March 2013.

Next on the list is Ventura, where the median listing price is $525,000. The total listings have increased by nearly 29% from last year. There are 2,719 homes available in the city.

The amount of available homes has also increased significantly in the next city on the list, Oakland. Available homes are up 47.11% from last year. The price tag of $499,000 isn’t keeping buyers away either. The median age of inventory on the market is 27 days, which is 2nd in the nation, despite prices being up 16% from last year.

San Diego is just behind Oakland with a median listing price of $469,000. Prices are up in San Diego as well over last year. The median listing price is 15.8% above March 2013.

Rounding out the top eight is Los Angeles/Long Beach, where the median listing price is $459,900. There are 20,983 homes available in the Los Angeles/Long Beach area, which is 12.19% above last year. The median age of inventory in the area is growing. It’s at 59 days now, which is 25.53% above last year.

The other two cities in the top ten are Washington, D.C., where the median listing price is $459,000 and Boulder, Colorado, where the median price is $419,715.

Only two cities in the country have median listing prices below $100,000: the aforementioned South Bend and Toledo, Ohio, where the median price is $99,900.

So if you want all the amenities that California has to offer, be prepared to empty your wallet. But who wants a heavy wallet weighing them down when they’re swimming in the ocean or bounding down a ski slope anyway?

The number of people looking to rent in Colorado or Washington has increased dramatically in the last six months. You might even say that interest in the two states is sky high.

But why? What makes renters want to weed through all the other states and plant their flag in Colorado or Washington?

Let’s see. The two states’ football teams faced off in the Super Bowl this year, so maybe people are jumping on the Seahawks or Broncos bandwagon. Both states also offer a high quality of life. According to the Gallup-Healthways Well-Being Index, both Colorado and Washington ranked in the top 10 states with the highest well-being in 2013.

Plus there’s plenty of green space in both states for those who love being among the trees, bushes and plants.

All of those things certainly have to be a draw for prospective renters, but let’s be blunt here. Where there’s smoke, there’s probably fire.

Colorado and Washington just happen to be the two states where marijuana has recently become legal. That might have been one small factor that sparked the joint interest in the Centennial and Evergreen states.

In the last six months, the number of people searching for rentals in Colorado jumped 26.27% from the same time period last year, according to data from ApartmentGuide.com. Washington also saw an increase of 24.51% in the number of people looking to rent in the state.

ApartmentGuide.com also reports that the number of people from outside the two states looking for rental properties in the states has dramatically increased over the same time period.

The number of people looking to move to Colorado and jumped by 19.2% in the last six months. The rate of prospective Washingtonians rose by 13.38% as well.

Many of those prospective renters may just be college students. According to The College Fix, Colorado colleges have seen a surge in applications since marijuana became legal in the state on January 1.

It makes you wonder. Will other states follow suit once they see the economic impact of legalized marijuana? Will the rise in renters lead to a chronic shortage of available rentals in the states?

No matter what, the rental market in Washington and Colorado is a budding gold mine. Real estate investors might be wise to plant their seeds now and then wait for the green to flow in.

This definitely seems to be the case. I own a rental about a block from a major university in Colorado, and we have seen rents jumping up in the last year or so. We are raising our rent by 20% this year, and we are still 10% below market.

We haven’t been able to raise rents since we bought the property in 2005 because of the glut of foreclosures-turned-rentals, but that seems to be turning a corner of sorts now. Housing prices in the area have been jumping up as well. We’ll see if this lasts.

I haven’t been able to raise the rents on my Las Vegas properties either. I’m told the rental market is starting to tighten now that the hedge funds aren’t buying any more properties. Rents may start going up there again soon.

Why is the Denver airport so far from Denver? Why does the downtown area look so run-down? Why are there so many homeless people everywhere in downtown? I don’t have to ask why there are potheads everywhere…

The airport is so far from the city thanks to the vision of former mayor Frederico Pena, who later became Transportation Secretary under Bill Clinton. No one in Denver understands why this airport was built so far from the city. Stapleton airport was much more conveniently located.

The downtown area has been rundown and full of homeless since I grew up there in the 70s. Areas of the city of Denver have always been somewhat rundown, and this is no different than any major city, including Los Angeles.

The population of the city of Denver is about 600k, and the overall metropolitan area is about 3M. The Denver suburbs are similar to OC (minus the temperate winter weather). In fact, you will find many OC transplants there who found that they can buy a house outright for their OC equity; much to the chagrin of native Coloradoans who view Californians the way Californians view the Chinese.

The other draw in Colorado is the fiscal restraint regarding government spending and taxes. The state constitution requires them to refund excess taxes to taxpayers. I received tax refunds most years when I lived there. With added taxes coming in, the refunds will be larger with the new law. As long as crime doesn’t get out of hand, then this status quo will continue. If crime does get out of hand, the people in Colorado won’t put up with it, and the laws will change.

For Sale: A spacious 1,600-square-foot, three-bedroom Tudor-style home built in 1929, with one-and-a-half baths, glass block windows, hardwood floors, crown molding and custom fireplaces. Within walking distance of restaurants, playgrounds and public schools.

And it’s being offered next month for as little as $1,000.

Just one catch. The single-family house on 5500 Kensington Ave. has a zip code that makes listing agents wake up in cold sweats: 48224.

For the uninitiated, that’s the center of Wayne County, Michigan. Otherwise known as Detroit.

Still, if you’re the right kind of buyer, the Motor City has a deal for you. The city, which filed the largest-ever municipal bankruptcy last year and has been ground zero for urban blight for decades, is holding an online auction for more than a dozen Tudor and Colonial-style homes in tax lien-related foreclosures. The starting bid at http://www.BuildingDetroit.org is just $1,000, which officials hope will clear off an unwelcome inventory of more than 16,000 empty homes.

“We are moving aggressively to take these abandoned homes and get families living in them again,” Detroit’s Mayor Mike Duggan said at an April 14 press conference. “There are a lot of people who would love to move into many of our neighborhoods. Knowing that other people are going to be buying and fixing up the other vacant homes at the same time will make it a lot easier for them to make that commitment.”

The auction, which starts next month, will put a handful of single-family homes on the market for as little as a few dozen C-notes or a swipe of a credit card. You can bid up homes in $100 increments, according to the auction site.

The sales are only open to Michigan residents who owe no back taxes in Wayne County and to companies licensed to do business in Michigan that have no prior building code or blight violations or tax foreclosures.

The city will auction one house a week, most of which are in the East English Village section of town, starting May 5. An open house for all 15 homes will be held on April 27.

Auction winners still must move fast. The sales require a 10% down payment within 72 hours, while settlement must be made within 60 days. Full payment must be made within 60 days if the purchase price is less than $20,000 or within 90 days if it’s more than $20,000. And you must have a certificate of occupancy and an owner living in the house within six months.

“We are not looking for speculators,” said Erica Ward Gerson, head of Detroit’s Land Bank Authority, the agency that will administer the program. “If you’re not going to act diligently to fix up the house, you’ll lose the house and your money.”

A $20,000 deal won’t cost much, at least on the surface. A 30-year mortgage at that price and national average 4.36% interest would just set you back $99.68 a month, including property taxes and mortgage and property insurance, according to Bankrate.com.

But it isn’t a turnkey deal. Many of the homes lack water heaters and furnaces, need new roofs and windows, not to mention kitchen appliances and fixtures, and could do with a new coat of paint. Rehab on the properties must also begin within 30 days after getting the deed and the front door keys.

So would flipping the house, even if you bought it for a few thousand dollars, turn a profit? Given that the average sales price of homes in the English Village neighborhood on Zillow.com is just $48,000, one veteran “flipper” says no.

“I just can’t see a lot of these deals working,” said Bill Kendall, a Keller Williams realtor based in Pittsburgh who flips as many as two dozen homes a year around the country, some in as little as eight weeks.

The stats from Realtor.com showed a 9.5 percent growth over March of last year, with 1,841,844 units at a median price of $199,900, which was also 5.3 percent higher. Last year showed an imbalance, with a shorter supply and a heavy increase in home prices.

“Bidding wars in many markets last year frequently elevated offer prices beyond the reach of first-time buyers who could scarcely save for the down payment,” offered Steve Berkowitz, CEO of Move. “While inventory is still low, the continuing annual lift in the number of homes on the market that we’ve seen over the first months of 2014 is an indicator that buying conditions this year may be notably improved from the frenzied pace of last spring.”

More homes on the market is always a good sign for first-time buyers and those looking to move up. There is less competition and makes it that much harder to get a home.

Despite this good news, home sales are still relatively slow overall due to the current poor health of the housing market.

The National Association of Realtors (NAR) Pending Home Sales Index for February 2014 showed a 10.5 percent decline, compared to the same period in 2013, the eighth-straight month of decline for pending sales.

Freddie Mac released its U.S. Economic and Housing Market Outlook for April, noting that the housing market continues to be “noisy,” giving mixed signals heading into spring.

Freddie Mac projects that new home construction will increase by 18 percent, while home appreciation will moderate to an annual growth of 5 percent for 2014.

The company also commented that due to a slower than normal first two months of the year, it is lowering its home sales projections slightly from 5.6 million to 5.5 million.

“We’re getting mixed signals as we start the spring home buying season. Tight inventory may pose a significant challenge for home buyers in many markets across the country, which may result in higher home prices and sales being lower than expected,” said Frank Nothaft, VP and chief economist at Freddie Mac.

Nothaft added, “This is good news for those markets that have room to run on the house price appreciation front, but it’s also going to increase the affordability pinch in many markets, especially along the country’s east and west coasts. Two indicators that are supporting local housing activity are rising consumer confidence and declining unemployment rates.”

The housing market is being helped by local employment, which saw all 50 states experience a decline in unemployment rates, according to Freddie Mac. Eighteen states saw at least a half percentage point reduction in their unemployment rate over the previous three months ending in February.

Although consumer confidence waned slightly over the latter half of 2013 from an increase in interest rates, Freddie Mac found that confidence is tracking higher, and noted, “March was at the highest level since January 2008.”

The company believes that the 30-year fixed-rate mortgage will continue its path of gradual increases, eventually ending the year around 5 percent.

I totally understand why the Fed uses rents instead of housing prices to determine living cost.

This is a Zombie economy, where true price discovery is no longer applicable on everything … all prices are manipulated. That includes rents which is one of the pricing mechanisms used to determine housing values. And since housing values are Ponzied, so in turn are rents.

We’re gonna have another crash. The only way the Fed could have kept the deflationary crash from happening is to reduce the gap between incomes and the private debt that begun 14 years ago. In other words, our economy is distorted and in Zombie mode because the debt is too high, and the incomes are too low (Japanese style). The income is insufficient to sustain the debt. This is the reason why I think the banks are not loaning the money to the public that they are receiving from the Fed. They can’t loan it out until they see rising incomes, i.e. INFLATION.

So to sum it up, I believe that rents will decline in many markets (especially in the extreme bubble areas), as housing and our economy exits the eye of the storm.

” This is the reason why I think the banks are not loaning the money to the public that they are receiving from the Fed. They can’t loan it out until they see rising incomes, i.e. INFLATION.”

Most people believe that it’s the other way around. Banks loan money and that creates inflation … and that it true in a normal economy setting. However, we have reached the point where our economy is so distorted due to Ponzi manipulation, that any debt loaned in to the economy is used by the general public to deleverage or sustain living standards, including paying higher rents. <—- GET IT?

I’ve also noticed your posts being much more bullish since you closed on your place, and even if you don’t have confirmation bias, you need to realize that your posts are coming across that way now. It’s not an ad hominem attack. It’s a valid observation that I think Irvine Renter meant constructively.

Your point about fewer distressed sales is valid because it is a separate type of buyer and seller profile, but at the same time I think you might be overemphasizing it. Look at the YoY inventory increase for OC and it’s clear that the market has slowed since last year. “Slowed” doesn’t mean prices will go down, but price increases will probably be more subdued and this cycle is probably closer to the top than the bottom.

I went out of my way to make my comment as constructive as possible, and I readily admitted I may be wrong. I apologize if I offended.

Inventory is coming back, but it’s still very low by historic standards because underwater borrowers still can’t list and sell their homes. Prior to 2012, we never had less than 10,000 homes for sale even during off times of the year.

I highly respect your blog & all the valuable content. However, I beg to differ on the numbers of your calculator and its conclusion of a fairly valued housing market.

Most of the real estate agents would take your approach and advertise/exaggerate the tax savings one can get from property tax and mortgage interest deduction. The fact is that their calculations never take into account for the standard deduction vs itemized deduction.

I used $165445 as the income for filing jointly in year 2013, with 2 children, with zero for most of the items, including 401k contribution, but about 1% SDI tax. I only got an annual tax saving of $4526, or $377 per month. That is $665 difference every month, or about 22% of the $2989 ownership cost.

The current market price is already 10+% overvalued with my calculation. $165445 income for a household is nothing to be sneezed at. It could be higher, but the calculation won’t change much. I changed the income to $200K (joint), and the tax saving increased $53 per month.

On my site (one of the calculators near the top), my calculation accounts for this difference, but I didn’t update the tax calculations to the year 2013.

Obviously, if a family earns less than $165445, their tax saving will tend to be less. There is zero tax saving, as soon as your itemized deduction (mortgage interest+property tax+state income tax+SDI+VLF fees+any charity) is smaller than standard deduction.

Most people are too lazy to do their own tax, not to mention doing it twice to compare the tax savings. But for the biggest investment of a person’s life, a home purchase, I hope that they’re wiser and more diligent.

But then, again, rental parity says nothing about the direction of the housing market, just like fundamental analysis says nothing about where a stock will be going.